Airline Stocks Could Charge Higher in Short Covering Rally

Airlines could blast higher in a summer rally that shakes out short sellers and rewards well-timed long positions. The uptick may not reach June highs, when air carriers were trading more than 40% above current levels, but the buying spike could be worth the considerable risk of owning these hot potatoes. Just keep in mind that this optimism isn't intended as an "all-clear" signal because one or more of these fallen giants could eventually go bankrupt or be forced to merge.

Key Takeaways

  • Airline stocks have hit oversold levels that raise the odds for higher prices.
  • The strongest short-term plays could gain 30% to 40%.
  • Long-term industry headwinds will likely re-emerge this fall and winter.

Major carriers have now dropped into weekly oversold technical readings after steady downticks that are now probing early June price levels. At the same time, TSA checkpoint travel numbers have risen to the highest levels since the shutdown started in March. Curve-flattening now underway in the states affected by the summer COVID-19 spike could ignite this potent combination, with short-term optimism underpinning sector buying interest.

Of course, these companies face major challenges in coming months, with high odds for a second wave of the pandemic that keeps folks close to home until the second quarter of 2021, at the earliest. In addition, Asian and European destinations remain off-limits to American travelers due to our high infection rates, generating a secondary headwind that could delay an airline industry renaissance. Even so, short sellers may have overplayed their hands in this summer tape, setting up ideal conditions for a painful squeeze.

Short selling is an investment or trading strategy that speculates on the decline in a stock or other security's price. It is an advanced strategy that should only be undertaken by experienced traders and investors.

Chart showing the share price performance of the US Global Jets ETF (JETS)

The US Global Jets ETF (JETS) topped out in the first quarter of 2018 and entered a broad topping pattern, with support in the mid-$20s. It broke down in February 2020, entering a vertical slide that dumped the sector fund to $11.25, the lowest low since it came public in 2015. A bounce into the end of March stalled above $18, giving way to a successful May test at the deep low. That set the stage for a double bottom reversal that generated a four-week 100% rally into $22.10.

The fund has ticked lower in a gravity wave for the past two months, posting four lows into this week's low near $15, which has aligned with the .618 Fibonacci rally retracement level. Selling pressure eased considerably in late June, with a shallow distribution wave that is now probing a new low. A wide-range, high-volume rally day could signal the turnaround, favoring a persistent buying impulse that has the potential to reach the June peak or the declining 50-week exponential moving average (EMA).

Chart showing the share price performance of Delta Air Lines, Inc. (DAL)

Delta Air Lines, Inc. (DAL) stock carved a long series of nominally higher highs between 2015 and July 2019's all-time high at $63.11 and broke long-term support in the mid-$40s during the first quarter selloff. The decline posted a six-year low in the upper teens in March and bounced into the mid-$30s a few sessions later. Sellers returned in the second quarter, carving a steady decline that undercut the prior low by $1.59 in May, ahead of a rapid recovery that set off a buying signal.

The stock surged higher into June, posting a three-month high in the upper $30s. Sellers then took control once again, carving four lows just like the sector fund. The weekly stochastic oscillator has entered the oversold zone at the same time, raising the odds for a bullish crossover that generates 8 to 12 weeks of buying pressure. Like the JETS ETF, Delta's accumulation readings show resilience, indicating that it will be relatively easy for fresh capital to lift the stock back to the June peak.

A double bottom pattern is a technical analysis charting pattern that describes a change in trend and a momentum reversal from prior leading price action. It describes the drop of a stock or index, a rebound, another drop to the same or similar level as the original drop, and finally another rebound. The double bottom looks like the letter "W." The twice-touched low is considered a support level.

The Bottom Line

Shares of airline carriers could gain substantial ground in a summer relief rally, fueled by covering short sellers.

Disclosure: The author held no positions in the aforementioned securities at the time of publication.

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